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How Do Financial Advisors Get Paid

March 4, 2015 by Daniel Wrenne

How Do Financial Advisors Get Paid?

When looking for the right financial advisor, it can be tough to know where to begin. You know that you’d like help with your money, but you want to know that your advisor is giving you good advice for a fair price.

That’s why it’s perfectly reasonable to ask the question, “how do financial advisors get paid?”

There are generally three types of pay structures: commission-based financial advisors, fee-only financial advisors, and fee-based financial advisors. Here’s how each of these financial advisors get paid and how it may affect the services you receive.

Commission-Based Financial Advisors

Commission-based financial advisors only make money from selling financial products like life insurance, mutual funds, and annuities.

While it’s nice to never see a bill from the planner, it can be difficult to understand exactly how the advisor is compensated. There’s not much transparency here, and because advisors get paid for selling products there’s a clear conflict of interest between what’s best for you and what’s best for the service provider.

Some financial advisors will earn front-end commissions, which are a percentage of the transaction amount. If you buy $10,000 of mutual funds with a front-end fee of 1%, your advisor will earn $100 and the remaining $9,900 will be deposited in your account.

Financial advisors can also earn deferred sales charge (DSC) or back-end commissions. These are paid to the advisor by the financial product company, so you never see the charge.

If you buy $10,000 of mutual funds with a DSC commission of 5%, your advisor will receive 5% from the company and $10,000 will be deposited in your account. Sounds great, right? The catch is that if you withdraw the money before a set amount of time, you will be charged a withdrawal fee.

Financial advisors can also receive ongoing trailer fee commissions from investment products. The investment company sends these commissions to the advisor, and they continue as long as you own the product.

Some investments earn a higher commission than others, which could lead an advisor to recommending products that pay more but aren’t the best fit for the client’s goals.

Commission-based advisors might also be incentivized to sell in-house products. In some financial companies, the advisor will be let go if he or she doesn’t sell a certain amount of in-house products.

It’s also possible that the advisor will receive a bonus for selling additional in-house products. This can be a problem, since the in-house products might not be the best fit for your situation.

As you can see, it’s tricky to understand exactly how commissions work. This makes it difficult to determine if you’re paying a fair price.

It’s also tough to figure out if you are receiving advice that is in your best interest.

Fee-Only Financial Advisors

Fee-only financial advisors only earn money that comes directly from the client and do not receive any commissions for the sale of financial products. Since they do not earn commissions, it is much easier to understand how they are paid and if there are any conflicts of interest.

There are a number of fee-only financial advisor models.

Fee-only financial advisors might charge by the hour. If you have a few questions and just want a quick check-in on your finances, this can be a great option.

Financial planners might also charge a set fee for a package of services. For example, if you’d like a one-time financial plan instead of on-going advice, you might pay a set fee to receive the plan.

Many fee-only financial advisors charge a monthly, quarterly, or annual recurring fee. If you’d like on-going financial advice, this can be a great option. By building an on-going relationship with your advisor, you can ask plenty of questions throughout the year to make sure you are optimizing your finances.

Fee-Based Financial Advisors

Fee-based financial advisors earn their living by accepting both commissions and fees.

Since fee-based financial advisors earn commissions, it’s difficult to determine exactly how they are paid. Fee-based is not the same as fee-only!

Benefits of Working with a Fee-Only Financial Advisor

Working with a fee-only financial advisor is a great way to take control of your financial life.

First, it’s easy to understand how your fee-only advisor gets paid. You can be comfortable knowing that you are paying a fair price for the advisor’s services.

Second, conflicts of interest between you and the advisor are minimized. Your best interest and the advisor’s best interest are aligned. They earn a set fee for financial planning services and are not compensated via sales of investment or insurance products.

Finally, fee-only planning emphasizes comprehensive advice. Since the advisor doesn’t rely on product commissions to get paid, the focus shifts from financial products to an overview of your financial life. Trust that your financial advisor is working in your best interest by working with a fee-only financial planner.

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